Press Room: Tax Release

September 16, 2013

Proposed R&E Deduction Regulations Include Favorable Guidance

Newly proposed Sec.174 regulations address several long-standing issues related to the deduction for research or experimental (R&E) expenditures. The proposed regulations provide that if the expenditures qualify as R&E expenditures, it is not relevant whether a resulting product is ultimately sold or is used in the taxpayer’s trade or business. The proposed regulations define the term pilot model as any representation or product model that is produced to evaluate and resolve uncertainty concerning the product during development or improvement of the product. Thus, full scale prototypes may qualify for the R&E deduction under this standard. The proposed rules also include a new shrinking-back provision applicable when the Sec. 174 requirements are met with respect to certain components, but not with respect to the product as a whole. 

Meeting the Sec. 174 requirements is one prerequisite for eligibility for the Sec. 41 research credit. These rules generally are taxpayer favorable and resolve uncertainty.

The new regulations are proposed to apply to tax years ending on or after the date final regulations are published. However, IRS states that it will not challenge return positions consistent with the proposed regulations and that taxpayers therefore may rely on the proposed rules until final regulations are published.

This is an opportunity for taxpayers to review their procedures for capturing and deducting  their research expenditures to take full advantage of these new rules.